Investment and capital structure decisions under time-inconsistent preferences
AbstractBased on a continuous-time model of quasi-hyperbolic discounting, this paper provides an analytically tractable framework of entrepreneurial firms’ investment and capital structure decisions with time-inconsistent preferences. We show that the impact of time-inconsistent preferences depends not only on the financing structures (all-equity financing or debt-equity financing), but also on the entrepreneurs’ belief regarding their future timeinconsistent behavior (sophisticated or naive). Time-inconsistent preferences delay investment under both all-equity financing and debt-equity financing. However, the impact is weakened under debt-equity financing, because debt financing increases the payoff value upon investment and accelerates investment. Naive entrepreneurs invest later and default earlier than sophisticated entrepreneurs, leading to a shorter operating period. Moreover, we find that naive entrepreneurs may choose higher leverage, while sophisticated entrepreneurs always choose lower leverage, compared to the time-consistent benchmark. These results support the empirical findings in entrepreneurial finance.
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Bibliographic InfoPaper provided by Kyoto University, Institute of Economic Research in its series KIER Working Papers with number 858.
Date of creation: Apr 2013
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Investment; Capital structure; Quasi-hyperbolic discounting; Entrepreneurial finance;
Find related papers by JEL classification:
- D92 - Microeconomics - - Intertemporal Choice - - - Intertemporal Firm Choice, Investment, Capacity, and Financing
- G02 - Financial Economics - - General - - - Behavioral Finance: Underlying Principles
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
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